1. Political Economy and Economic Development1

2. Economic Issues for International Businesses
What type of economic system does the country have?
What is the size, growth potential, and stability of the market?
Is the company’s industry in that country’s public or private sector?
If public, does the government allow private competition?
If private, is it moving towards public ownership?
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3. Importance of Economic Environments
Company managers study economic environments to estimate how trends affect their performance
A country’s economic policies are a leading indicator of government’s goals and its planned use of economic tools and market reforms.
Economic development directly impacts citizens, managers, policymakers, and institutions.
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4. What Determines A Country’s Level Of Economic Development?
Gross national income (GNI) per person measures the total annual income received by residents of a nation
Japan, Sweden, Switzerland, and the U.S. have high GNI
China and India have low GNI
GNI can be misleading because it does not consider differences in the cost of living
need to adjust GNI figures using purchasing power parity (PPP)
PPP asks how much money would be needed to purchase the same goods and services in two countries.
GNI per capita of Bangladesh was $1330 in 2016 and in the U.S it was $56,180 (Source:
The base for the adjustment of PPP is the cost of living in the United States.

5. What Determines A Country’s Level Of Economic Development?
Economic development differs from economic growth. It is a broader concept than economic growth. Development reflects social and economic progress and requires economic growth.
Growth is a vital and necessary condition for development and it includes policy intervention endeavor with aims of economic and social well-being of people, economic growth is a phenomenon of market productivity and rise in GDP., but it is not a sufficient condition as it cannot guarantee development.

6. What Determines A Country’s Level Of Economic Development?
One of the most compelling definitions of development is that proposed by Amartya Sen.
Nobel-prize winner Amartya Sen argues economic development should be seen as a process of expanding the real freedoms that people experience
the removal of major impediments to freedom like poverty, tyranny, and neglect of public facilities
the presence of basic health care and basic education
Amartya Sen also claims that economic progress requires the democratization of political communities to give citizens a voice
The Nobel prize-winning economist Amartya Sen has argued in his theory of social development that development should be assessed less by material output measures such as GNI per capita/GDP per capita and more by the capabilities and opportunities that people enjoy.
According to Sen, development should be seen as a process of expanding the real freedoms that people experience. Hence, development requires the removal of major impediments to freedom: poverty as well as tyranny, poor economic opportunities as well as systematic social deprivation, neglect of public facilities as well as the intolerance of repressive states. In Sen’s view, development is not just an economic process, but it is a political one too, and to succeed requires the “democratization” of political communities to give citizens a voice in the important decisions made for the community. This perspective leads Sen to emphasize basic health care, especially for children, and basic education, especially for women.

7. What Determines A Country’s Level Of Economic Development?
The United Nations used Sen’s ideas to develop the Human Development Index (HDI) which is based on
life expectancy at birth
educational attainment
whether average incomes are sufficient to meet the basic needs of life in a country
Sen’s influential thesis has been picked up by the United Nations, which has developed the Human Development Index (HDI) to measure the quality of human life in different nations.
The HDI is based on three measures: life expectancy at birth (which is a function of health care), educational attainment (which is measured by a combination of the adult literacy rate and enrollment in primary, secondary, and tertiary education), and whether average incomes, based on PPP estimates, are sufficient to meet the basic needs of life in a country (adequate food, shelter, and health care).

8. How Does Political Economy Influence Economic Progress?
Innovation and entrepreneurship are the engines of long-run economic growth
innovation includes new products, new processes, new organizations, new management practices, and new strategies
entrepreneurs commercialize innovative new products and processes
Innovation and entrepreneurship help increase economic activity by creating new markets and products that did not previously exist
innovation in production and business processes result in more productive labor and capital further boosting economic growth rates
A country’s economic development is a function of its economic and political systems. Economic freedom associated with a market economy creates greater incentives for innovation and entrepreneurship than either a planned or a mixed economy.
The Opening Case:

9. How Does Political Economy Influence Economic Progress?
Innovation and entrepreneurship require a market economy
there is little incentive to develop new innovations in planned economies because the state owns all means production and therefore, the gains
There is a strong relationship between economic freedom and economic growth
the six countries with the highest ratings of economic freedom from 1975 to 1995 were also among the highest for economic growth
Hong Kong, Switzerland, Singapore, the United States, Canada, and Germany
LO3: Describe how transition economies are moving towards market based systems.
Innovation and entrepreneurship require strong property rights.. Without strong property rights protection, businesses and individuals run the risk that the profits from their innovative efforts will be expropriated, either by criminal elements or by the state.
There is debate on the kind of political system that best achieves a functioning market economy with strong protection for property rights. People in the West tend to associate a representative democracy with a market economic system, strong property rights protection, and economic progress. Building on this, we tend to argue that democracy is good for growth.
However, some totalitarian regimes have fostered a market economy and strong property rights protection and have experienced rapid economic growth. Four of the fastest-growing economies of the past 30 years—South Korea, Taiwan, Singapore, and Hong Kong—had one thing in common at the start of their economic growth: undemocratic governments!

10. How Does Political Economy Influence Economic Progress?
Innovation and entrepreneurship require strong property rights
without strong property rights, individuals and businesses risk having their innovations and potential profits stolen
Economist Hernando de Soto claims that inadequate property protection in many developing nations limits economic growth
While it is possible to argue that democracy is not a necessary precondition for a free market economy in which property rights are protected, subsequent economic growth often leads to establishment of a democratic regime.
Peruvian economist Hernando de Soto has argued that a lot of developing nations are not able to fully reap the benefits of Capitalism because they do not have adequate property rights. For instance, in Haiti it takes 176 steps and 19years to own property. A landmark step came from China, which despite being a nominally communist country started allowing private property owners to have the same rights as the government in October 2007.

11. How Does Political Economy Influence Economic Progress?
Democratic regimes are probably more favorable to long-term economic growth than dictatorships, even the benevolent kind
property rights are only secure in well-functioning, mature democracies
Subsequent economic growth leads to the establishment of democratic regimes
South Korea
Taiwan
Country Focus: Emerging Property Rights in China explores the implications of a new property law that took effect in China in In China, all land belongs to the state. Land is leased to urban users for years, and to rural users for 30 years. Under the new law, urban and rural land lease holders now have the right to automatically renew their leases, or be fairly compensated if the land needs to be used for other purposes. Consequently, lease holders now have some protection against large scale appropriation by the state.

12. How Does Geography Influence Economic Development?
Countries with favorable geography are more likely to engage in trade, and so, be more open to market-based economic systems, and the economic growth they promote
Jeffrey Sachs studied economic growth rates between 1965 and and found that
landlocked countries grew more slowly than coastal economies
being totally landlocked reduced a country’s growth rate by 0.7% per year
tropical countries grew more slowly than countries in temperate zones

13. How Does Education Influence Economic Development?
Countries that invest in education have higher growth rates because the workforce is more productive
countries in Southeast Asia have offset their geographical disadvantages by investing in education
Indonesia, Malaysia, and Singapore

14. States In Transition
Since the late 1980s, two trends have emerged in the political economy:
A wave of democratic revolutions swept the world in the late 1980s and early 1990s
There has been a move away from centrally planned and mixed economies and toward a more free market economic model
Two trends are evident: first, during the late 1980s and early 1990s, a wave of democratic revolutions swept the world; second, totalitarian governments collapsed and were replaced by democratically elected governments that were typically more committed to free market capitalism than their predecessors had been.
These changes were most dramatic in Eastern Europe, where the collapse of communism bought an end to the Cold War and led to the breakup of the Soviet Union, but similar changes were occurring throughout the world during the same period. Across much of Asia, Latin America, and Africa there was a marked shift toward greater democracy.

15. Trend 1- The Spread Of Democracy
There are three main reasons for the spread of democracy:
Many totalitarian regimes failed to deliver economic progress
New information and communication technologies, have broken down the ability of the state to control access to uncensored information
Emergence of increasingly prosperous middle and working classes who have pushed for democratic reforms
There are three reasons for the spread of democracy:
First, many totalitarian regimes failed to deliver economic progress to the vast bulk of their populations.
Second, new information and communication technologies, including shortwave radio, satellite television, fax machines, desktop publishing, and the Internet have broken down the ability of the state to control access to uncensored information.
Third, the economic advances of the past quarter century have led to the emergence of increasingly prosperous middle and working classes who have pushed for democratic reforms.

16. How Free Are Countries Politically?
Political Freedom in 2010

17. Trend 2: The spread of market-based systems
More countries have moved away from centrally planned and mixed economies toward the market-based model
Command and mixed economies failed to deliver the sustained economic growth achieved in market-based countries
The shift toward a market-based system involves
deregulation – removing legal restrictions to the free play of markets, the establishment of private enterprises, and the manner in which private enterprises operate
privatization - transfers the ownership of state property into the hands of private investors
the creation of a legal system to safeguard property rights
The underlying rationale for economic transformation has been the same the world over. In general, command and mixed economies failed to deliver the kind of sustained economic performance that was achieved by countries adopting market-based systems, such as the United States, Switzerland, Hong Kong, and Taiwan.
Deregulation- previously in the command economies the government placed a lot of restrictions on International Trade, limiting the activities of private enterprises and deciding centrally on the price and output to be produced. Deregulation involves removing restrictions over the operations of private enterprises and International Trade, thereby allowing prices to be set by the interplay of demand and supply. In mixed the government had limited control but they still had strict control over certain sectors, set those prices and also discouraged private investments there. However, the transition of mixed economies was much easier than command economies.
Privatization- The privatization movement started in Great Britain in the 1980s by the Prime Minister Margaret Thatcher, who sold British Telecom(BT).
Legal System- A well functioning legal system is important to ensure that the property rights are protected. If the entrepreneurs efforts are expropriated by private or public action, then they will be discouraged to innovate and become entrepreneurs.

18. How Free Are Countries Economically?
Economic Freedom in 2010

19. Implications of a Changing Political Economy
Markets that were formerly off-limits to Western business are now open
firms need to explore opportunities in these markets
Despite being underdeveloped and poor, some markets have huge potential
China -1.3 billion people
India – 1.2 billion people
Latin America – 600 million potential consumers
Due to free market economy and democracy huge markets in Latin America, Asia and Africa are now accessible to the outside world. Although they may be underdeveloped but they have a huge potential of growth.

20. Implications For Managers
Countries with democratic regimes, market based economic policies, and strong property rights protection are more likely to have higher sustained rates of economic growth
these markets are more attractive to international businesses
the benefits, costs, and risks of doing business in a country are a function of the country’s political, economic, and legal systems

21. Implications For Managers
The benefits of doing business in a country are a function of
the market’s size
the purchasing power of its consumers
their likely future wealth
Example: In 1960, South Korea was an unremarkable Third World nation. Today, it is the eleventh largest economy in the world as measured by GDP. Firms that recognized the country’s potential have benefited from its stunning growth.
By identifying and investing early in potential future economic stars, firms may be able to gain first mover advantages (advantages that accrue to early entrants into a market) and establish loyalty and experience in a country
China
Example: In 1960, South Korea was an unremarkable Third World nation. Today, it is the eleventh largest economy in the world as measured by GDP. Firms that recognized the country’s potential have benefited from its stunning growth. For more than 2 decades China has been the largest recipient of Foreign Direct Investment in the developing world as International Businesses such as General Motors, Coca-Cola, Volkswagen, Unilever try to establish a sustainable advantage in this nation.

22. What Are The Implications Of Political Economy Differences For Managers?
The costs of doing business in a country are a function of its
political system
is it necessary to pay bribes to get market access?
economic level
are the necessary supporting business and infrastructure in place?
legal system
it can be more costly to do business in countries with dramatically different product, workplace, and pollution standards, or where there is poor legal protection for property rights
Political Factors- A company may have to pay off politically powerful entities in a country before the government allows them to do business. Hence, bribes can also increase the costs. (Social unrest, demonstrations, strikes can also create greater risks)
Economic- If a company enters an international market that does not have the necessary infrastructure then it can become costlier for them to operate there. For instance when McDonald’s entered Russia they found that Russian potatoes and meat was of a poor quality. So they have to set up their own dairy farms, cattle ranches, vegetable plots and food processing plants in order to ensure high quality products.

23. How Can Managers Determine A Market’s Overall Attractiveness?
The overall attractiveness of a country as a potential market and/or investment site for an international business depends on balancing the benefits, costs, and risks associated with doing business in that country
Other things being equal, the benefit-cost-risk trade-off is likely to be most favorable in politically stable developed and developing nations that have free market systems and no dramatic upsurge in either inflation rates or private sector debt